Trump’s Tariffs, Supply Chains, And South Carolina

May 09, 2018 06:12AM
● By Makayla Gay

By Mark David Witte

MBA Professor of Economics, College of Charleston

The majority of economists prefer free trade over any restrictive alternative. There were some unhappy academics when the Trump administration announced tariff rates as high as 50 percent for washing machines and up to 30 percent on solar panels.

The washing machine tariffs send a message to South Korean manufacturers like LG and Samsung, while the solar panel tariffs target the variety of solar panel manufacturers in China. This is particularly displeasing to Samsung, which is in the midst of a prominent $380 million investment in Newberry to manufacture washing machines.

South Carolina politicians were quick to criticize the new trade protection. According to the Wall Street Journal, Gov. Henry McMaster is “obviously disappointed” and Rep. Mark Sanford said, “This is a mistake.”

But there’s one element missing from this discussion: local content requirements.

Once very popular in China, local content requirements incentivize firms to produce a certain percentage of their final products in the country where they are sold. The World Trade Organization, of which the United States, China, and South Korea are members, takes a dim view of local content requirements. These trade restrictions often lead to large investments and jobs in the country of consumption while losing the efficiency gains from comparative advantage and trade.

If Samsung wants to sell washing machines in South Carolina, they’re probably going to come from that big, beautiful factory in Newberry where there are no tariffs. As for Samsung washing machines built in South Korea, they’ll likely be heading to Europe instead.

Likewise, LG is undoubtedly discussing how they can expand their North American footprint to avoid these tariffs. One week after the tariffs were announced, JinkoSolar, a Chinese firm, announced that they would finalize plans to build a major plant in the U.S.

Perhaps it’s only a coincidence that a few days earlier, authorities in Jacksonville, Fla. approved a $24 million incentive package to a shell company known as “Project Volt,” which has proposed building a $410 million solar panel plant.

The question remains: are these tariffs merely disguised local content requirements?

The Trump administration has explored the idea of local content requirements in the renegotiation of NAFTA. The U.S. technically runs a trade deficit with Canada and Mexico, but there are two culprits for this trade deficit: oil and automobiles/parts. With the exception of these two goods, the U.S. runs a trade surplus with its NAFTA trade partners.

Nobody wants more expensive oil (or gasoline), but a new NAFTA agreement could include a local content requirement for automobiles. Fuel economy regulations in the U.S. are partly to blame for this trade disparity in automobiles, but that’s an issue for another day.

China’s local content requirement has worked remarkably well for their domestic automotive manufacturing sector. Up until 2009, China maintained a 15 percent greater tax rate for cars sold in China with more than 60 percent of their value from imported parts. Not surprisingly, most cars sold in China are built in China. China only removed this policy when the E.U., U.S., and Canada argued their case in front of the World Trade Organization and won.

Arguably, this could happen again. The World Trade Organization may rule that the washing machine and solar panel tariffs aren’t permitted under their charter. This could also happen with a local content requirement under a new NAFTA agreement.

But by that time, the factories in Newberry and Jacksonville will already be built, and capital expenditures aren’t easily unwound. Those factories are made to last decades and can’t exactly be shipped to South Korea or China.

Firms that will supply goods to Samsung and JinkoSolar will likely conglomerate around these new factories. The supply chain of manufactured goods, which is full of many different firms making their own capital expenditures, exists to keep costs low and product quality high. Economists call this relationship-specific investment. It’s why so many cars and their parts are still manufactured around Detroit by a number of different firms along the supply chain.

Research by economist Deborah Swenson at the University of California-Davis shows the long-lasting impact of China’s automotive local content requirements. Specifically, Chinese auto part import data shows that many Chinese firms ended import relationships with foreign firms.

Additionally, the auto part imports that did come into China had lower prices, suggesting that exporters to China were under great pressure to reduce prices to maintain their buyers’ local content requirement. Even with the local content requirement gone, the impact on global supply chains persist.

All that to say, maybe those tariffs, even if they’re temporary, will have a positive impact on U.S. investment and employment that persists. Those factories won’t disappear and the workers in Newberry and Jacksonville will likely have those jobs long after the Trump administration has ended.